The Us Consumer in 2009

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Analysis

THE US CONSUMER: BEWARE!

US consumer expenditures have held up quite well since their December 2008 low. In fact,personal consumption expenditures have increased from $9.83 trillion (annualized rate) inDecember 2008 to $9.927 trillion in April, an annualized growth rate of nearly 3%. This isremarkable given the terrible employment situation, very tight credit conditions and thegeneral doom and gloom carried by the media and most economists and commentators.

The resiliency of consumer spending so far in 2009 is rather fortunate since it accounts forsome 70% of US GDP. Furthermore, it has significantly contributed to many recentobservations of green shoots in the US. Importantly, it has most likely been a key factor in thespectacular change in investors sentiment since March, leading to much higher equity prices

which themselves appear to be feeding the recent more upbeat consumer sentiment.

Here is the math between December 2008 and April 2009 from the National Income Accounts(numbers do not add up precisely due to other items):

Change in Wages and Salaries: - 79 ($B annualized rate)Change in Personal Transfers: +143Change in Personal Income + 8Change in Personal Taxes - 278Change in Personal Disposable Income +285Change in Personal Savings +190Change in Personal Expenditures + 96

Contrary to general belief, Personal Transfers have not played a crucial role so far, onlyhelping to maintain Pretax Personal Income $8B positive in the face of sharply declining laborincome. It is the $278B decline in Personal Taxes that has boosted Personal Disposable Incomeby $285B. And while consumers have boosted their savings by $190B, they used $96B toincrease their expenditures on goods and services.

The Making Work Pay Credit provision of theAmerican Recovery and Reinvestment Actof 2009reduced personal current taxes $49.8 billion at an annual rate in April and $11.2 billion inMarch. The total cost of this program is officially estimated at $19.9B for 2009, $$66B for2010 and $30.2B in 2011. March and April amounts presumably include catch up amounts forthe early part of 2009 before the tax bill was adopted. From May onward, the benefits to

Personal Income should be closer to the $19.9B annualized estimated cost.

This program is the bulk of the tax incentives for 2009 included in the Obama stimulusprogram. The increased AMT exemptions only amount to $2B in 2009. Tax relief is muchhigher in 2010 when the Making Work Pay Credit will total $66B and the AMT exemptions willreduce Personal Taxes by $82.7B.
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It remains that Personal Taxes declined at an annualized rate of $278B during the first 4months of 2009, substantially more than the stimulus program cost. Reduced income and netcapital gains are likely responsible for the bulk of the decline. What should we expect for theremainder of the year?

The effective tax rate for individuals was 9.8% in April, very close to the decade low of 9.4%

reached last year with the Bush administration tax refund in April. It is doubtful that theeffective rate will get much lower, meaning that disposable income will likely no longer beboosted by much lower taxes.

The other two areas to watch are Wages and Salaries and Personal Savings.

Wages and Salaries are dropping rapidly owing to reduced employment, reduced workweeksand restrained wage increases:

Employment declined 345,000 in May, a significant slowdown from the 642,000 average job

losses during the preceding 6 months. But the US economy is still losing jobs at a high rate

(the recessions of 2001 and 1991 never saw a number as bad as -345,000). More importantly,


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the average workweek has continued to shrink as corporations push more and more workers

into part-time work. As David Rosenberg, chief economist at Gluskin Sheff, remarked:

The number of part-time workers rose 129,000 last month and by 2.5 million since the

recession began a year-and-a-half ago. So its not as if all the laid off full-time workers

are losing their jobs; nearly one-in-three are being pushed into part-time work. But a

record share of the 2.7 million working part-time more than one-third are working

part-time because they have no choice (due to the weak economy). The number of

people working part-time but want full-time work has risen a record 70% over the past

year. Remarkable and disturbing.

So the strategy remains one of cutting back on hours worked at the same time not

as many layoffs but the effort to economize on the wage bill remains intact. What has

happened this cycle is that the shift towards part-time and away from full-time hasled to a dramatic reduction in the average workweek to a record low 33.1 hours. If we

took into account the total decline in labour input in May the aggregate hours

worked index sagged 0.7% MoM the total job loss in May exceeded 900,000. In fact,

this was almost exactly what the population and payroll concept adjusted Household

Survey showed, to very little fanfare (-833,000).


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In all, average weekly hours are dropping about 2% yoy, with no slowdown recently.

AVERAGE WEEKLY HOURS


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As Jeff Frankels, a member of NBER's recession-dating committee, noted:

Hours worked suggests that the hope-inspiring May moderation in the job loss series

may have been a monthly aberration. If firms were really gearing up to start hiring

workers once again, why would they now be cutting back as strongly as ever on the

hours that they ask their existing employees to work? My bottom line: the labor

market does not quite yet suggest that the economy has hit bottom.

Growth in average hourly earnings, the other component of weekly income, has been

moderating significantly in the past 3 months:AVERAGE HOURLY EARNINGS

David Rosenberg continues:

Average weekly earnings the wage-based proxy for personal income has slowed to

a mere 1.2% YoY, and as the chart below illustrates, is testing critical support levels.

They actually fell 0.2% MoM in May and over the last three months, have deflated in

rare fashion at a 0.7% annual rate. ()

Be that as it may, what is important is the growing pool of unemployed, which soared

787,000 in May the fifth highest on record. There are 14.5 million in the ranks of the

unemployed, and this swelled by a record six million over the last 12 months. So, itreally is only one part of the story that companies are no longer cutting as many jobs

as they were at the peak of the firing wave at the start of the year nobody is hiring

the new entrants who are coming into the labour force (the labour force expanded

350,000 last month). There is currently a record 12.8 million unemployed Americans

who are now looking for full-time positions that do not exist almost doubling in the

last year. Now what do you suppose that is going to do to the prevailing wage rates?


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All in all, Wages and Salaries, the principal component of Personal Income will decline for

some time to come since all its contributing factors are continuing to weaken:

1. Employment is still declining at a good clip, almost 4% yoy in May;2. Employed workers are working fewer hours than ever and the number of hours worked

has lately been declining at a 2% annualized rate;

3. Hourly earnings, which were 3.1% above last year in May, rose at a 1.8% annual ratebetween December 2008 and May 2009, slowing down further to a 1.3% annual rate

during the last 2 months.

Given these trends, it would be surprising if Wages and Salaries do not decline 3-5% yoy for

the remainder of 2009 compared with a 0.5% average gain during the January-April period. A

3% decline would reduce Wages and Salaries by nearly $200B annualized.

Personal Savings have been skyrocketing from virtually zero in April 2008 to over $600B in

May. Had savings remained near zero, personal expenditures would have been 6% higher in

May. The savings rate is now 4% but it needs to go up given that

household debt is now 130% of disposable income, up from 90% in 2000; household credit is now 26% of household net worth, up from 15% in 2000;

Were households to bring their debt to 100% of disposable income (20% of net worth), it would

reduce spending by some $3 trillion. If done over 5 years, personal expenditures would be


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reduced by $600B per year (that is the May 2009 annualized savings) or about 6% of their

current level. Lets take a look at the May 2009 data:

Wages and Salaries: 6465 ($B annualized rate)Personal Transfers: 2061Personal Income 8001

Personal Taxes 1182Personal Disposable Income 10909Personal Savings 620Personal Expenditures 9926

If Wages and Salaries decline $200B, Transfers rise $30B (average of the last 7 months) andPersonal Taxes are calculated at 9.5% (a reduction of $50B), Personal Disposable Income willdecline some $120B to about $10,800B. If Savings are $600B annualized, PersonalConsumption expenditures will drop $120B or another 1.2% from the May figure.

Remember that the above assumes a 4.0-4.5% savings rate. Many people are expecting it inthe 6-10% range in future years. Each 1% change is roughly $100B in spending.

To conclude, the math is not positive for consumer expenditures during the remainder of2009. Everything points to a negative trend that could take expenditures below theirDecember 2008 low of $9.8T.

If so, most of the green shoots observed recently will just die, the nascent inventory cyclewill peter out without final demand rising, housing will suffer even more, especially sinceforeclosures will become even more prevalent in coming months, banks will experience a newwave of mortgage and credit losses, the stock market will turn down and consumerconfidence will vanish.

I must also mention the impact of the recent rise in oil prices. In the last 6 months, retailgasoline prices have jumped $1.00/gallon (62%). This reduces Americans purchasing powerfor discretionary spending by $130B annualized.

June 10,2009

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The Us Consumer in 2009